For Chinese venture capitalist Wei Zhou, founding managing partner of China Creation Ventures, the changes he has witnessed in China during his professional life have been awe-inspiring.

"When I graduated from university, most of my classmates were assigned jobs in semiconductor-related areas as we studied physical electronics. But they all left that industry because there was so little progress," Zhou told China Money Network in an interview in his firm’s Beijing office two weeks ago. "Now, I think it is the best time to reinvest into that area."

Granted, Zhou recognizes that Chinese companies still lag behind Silicon Valley when it comes to core research breakthroughs in artificial intelligence (AI) and other deep tech areas. But there are many positive developments in these sectors, creating new opportunities for VCs like himself.

"For the past decade, we didn’t invest much in deep tech, because it didn’t make money. Now we see the rise of AI in China, even if it is not as cutting-edge like Google, but the advantage in China’s AI sector lies in the speed with which Chinese people and even Chinese government are adopting new things," Zhou said. "This high and rapid adoption is enabling new technology to find commercialized applications more easily and swiftly."

For example, Zhou’s firm invested recently in a company called CowaRobot, a low speed autonomous vehicle solutions company. One of the company’s products is a road sweeping robot that is being tested in Changsha city, Hunan province. With around 300 cities in China with a population over one million, the potential mass commercialization of this robot could be huge. China Creation Ventures is also looking into sectors such as the private rocket launch industry in China, something that did not exist just a few years ago.

In 2007, Zhou joined Kleiner Perkins Caufield & Byers China and was responsible for Internet, wireless, media and online financial services investments. He has observed how the spending behavior of Chinese millennial is creating new investment opportunities that would have not made sense a couple of years ago.

"In the past, we always look for companies with potential to grow to over 200 million to 300 million users. We don’t want to invest in companies targeting users below 100 million because it’s too small. Now, even if a company only targets 30 million to 50 million users, it can still be very profitable and valuable," Zhou said, explaining that Chinese young people today pay for whatever they like online.

One example that illustrates this trend is Himalaya FM, an audio platform in China and a portfolio company of Zhou’s firm. The company recorded RMB196 million (US$30.5 million) in revenues in December 2017 when it did a membership promotion for two days, something that would have been unimaginable in the past when users were unwilling to pay for content online. Another anecdote illustrating this shifting behavior is that factory workers are sometimes spending 1/3 of their monthly salaries on mobile entertainment, Zhou said. In the past, Chinese factory workers would be saving most of their income to send to their families.

Read an interview Q&A below. Also subscribeto China Money Podcast for free in the iTunes store, or subscribe to our weekly newsletter.

Q: Which sectors do you find the best investment opportunities right now?

A: There is a different "hot sector" every month nowadays and they are shifting rapidly. For us, we first look at the macro trends on what will happen in the next several years, instead of specific sectors. For example, we sensed a turning point about two years ago on China’s young generation taking a more prominent role in shaping consumption power, especially online.

For example, one of our portfolio companies Himalaya FM, the largest audio platform in China, is seeing revenue growing very fast with membership subscriptions. In the past, we never imagined that Chinese consumers would pay for monthly membership fees just for digital content. We expected it to happen in perhaps the next five years, but it’s happening much faster and earlier.
Q: For those who don’t know, Himalaya FM is the Chinese version of Apple podcast where users go to listen to audio content from talk shows to radio programs.

A: Yes, it’s everything. This model is actually more powerful in China than in other countries where podcasts have been around for a long time. Himalaya FM officially went online in 2013, and raised two rounds of financing in 2014. Back then, it only had 4 million users. Now they have nearly 600 million users.

Q: Wow, 600 million out of China’s population?

A: Yes, almost half of the Chinese population. Active users spend 119 minutes every day on it. To show you the kind of consumer behavior shift, the company recorded RMB196 million in revenues in December 2017 when it did a membership promotion for two days. That’s very different from my generation, when everyone assumed everything on the Internet is free. The behavior of the younger generation in China is similar to their peers in America and Japan. They pay for whatever they like online. In fact, the percentage of mobile payment made by young Chinese people is actually much higher than their American peers.

Q: Do you have specific numbers on that?

A: Well, I can give you an example. I reviewed data from a company providing free dorm wifi services for companies such as Foxconn. Some of those factories have 50 thousand employees who are all young people in their early twenties. They spend six to seven hours on mobile entertainment every day.

In factories built often in remote areas with no alternative entertainment services, their phones are the only entertainment they’ve got. Their monthly salary is around RMB5,000 (US$780). Surprising to us perhaps, some of them would spend 1/3 of their salaries on mobile entertainment, buying virtual goods and paying for games.

There are also more creative ways of paying for entertainment in China. For example, tipping for online performers first emerged in China. American consumers might spent more money in absolute terms online, but there is a much larger population base in China and young people are spending longer and longer time online. Therefore, China will become where the largest amount of money are spent in the virtual world. Many sectors would benefit from this trend, and that’s where we will seek our investment targets.

Q: But, if Himalaya FM already has over half of the Chinese population as its user, where would the future growth come from?

A: Their business is still growing and there is huge room to grow in the future. Global expansion is already under way as well. But really, the way of counting user growth as the core performance measure is a bit out-of-date in China.

Back when Internet companies are not expected to make real money, they were valued based on their user based and less on their profitability. With this new trend, however, I think profitability is finally arriving for Chinese Internet companies. So for Himalaya FM, even if their user growth is mostly saturated, their revenue and profit could keep growing for many more years.

Q: Younger generations of Chinese consumers are more willing to spend online and to pay for virtual goods online. What does that mean for start-ups?

A: Now, start-ups in the sectors that serve this growing consumer power in the digital world have much higher chance of reaching profitability. They can survive and thrive without any outside funding. That’s very different from the past, when online education companies – for example – have tried but failed to make any money.

Another macro trend we see is the changing tastes of the young generation. The older generation consumers liked luxury goods from Europe, but the younger generation prefers local Chinese Internet celebrity brands. That’s what we call "Wang Hong", or "Internet hot celebrities" brands. This also creates opportunities for consumer goods companies to re-brand or create new brands for China. For instance, there are many new brands of bubble tea and coffee emerging on this already crowded market and are catching on like wild fire.

Q: This is part of the "consumer upgrade" story, as consumer’s tastes evolve to become more sophisticated?

A: Or we could say, it’s just the new generation always considers the tastes of their parent’s generation old-fashioned. New group of brands needs to be generated every 20 years. For example, my son thinks Nike is not a cool brand because daddy wears them everyday. It’s old to him. He likes Under Armour because I never wear that brand. The psychology of the young generation is they are more liberated to express themselves. Moreover, they increasingly want personalized items and do not like the same stuff that everyone else wear. Internet, with big data and artificial intelligence (AI), could provide personalized services and products, which will generate many opportunities for start-ups.

Q: What are the companies you are looking at for investment right now?

A: In the past, we always look for companies with potential to grow to over 200 million to 300 million users. We don’t want to invest in companies targeting users below 100 million because it’s too small. Now, even if a company only targets 30 million to 50 million users, it can still be very profitable and valuable.

That’s why we just started reinvesting in vertical content platforms. We already invested in the largest audio content platform Himalaya FM, and short video platform Yixia.com. We just made an investment to Dongci, a virtual band app allowing people from different locations and time zones to create songs together. It’s very niche. This kind of app would not have made money in the past, but now the company is very active and the content are generating revenues because people are starting to pay.
Q: What are some other attractive markets you are examining for investments?

A: The other macro trend we see is that new technology is emerging in China. We used to receive criticism from American peers that Chinese keep investing into companies that are copying their business models. Then in 2011 to 2012, we started to see lots of new business models originating in China. It is getting even better as we are seeing more and more technology innovation.

I personally come from a deep technology background with experience in semiconductor, physics and and electron science. For the past decade, we didn’t invest much in deep tech, because it didn’t make money. Now we see the rise of AI in China, even if it is not as cutting-edge like Google, but the advantage in China’s AI sector lies in the speed with which Chinese people and even Chinese government are adopting new things. This high and rapid adoption is enabling new technology to find commercialized applications more easily and swiftly.

Q: But the application-focused AI companies in China have already produced some big players who are valued at very high levels. Do you fear that the best investment opportunities in this segment have already been taken?

A: Actually, no. The beauty of AI is, even the most advanced technology can’t be applied to everything, as each of the sectors and industries is unique. It’s very important to have real-life data to train it. Here is an analogy I use a lot: Chinese AI is like a kid with average IQ and Silicon Valley AI is similar to a child prodigy. However, Chinese AI was put to the streets early on where it can learn everything, while Silicon Valley AI sits in the lab without coming into contact with the real world that much. (I still think there are great opportunities) in the second-tier AI companies in China.
Q: Will you be looking at AI chips, where the Chinese government is encouraging investments into and is announcing many initiatives to support the domestic AI chips sector?

A: Yes we are looking at that as well, but the application level is still the current top priority for us. I still think there are a lot of opportunities in vertical sectors. For example, we just made investment into Singsound, a Chinese AI company focused on online English education using voice recognition. It’s very concentrated on this area and doing quite well.

Back to the AI chip question. When I graduated from university, most of my classmates were assigned jobs in semiconductor-related areas as we studied physical electronics. But they all left that industry eventually, because there was so little progress. Now, I think it is the best time to reinvest into that area.

But the lead time for semiconductors is pretty long. One has to be very patient and have deep technology understanding. We are now evaluating many specific vertical sectors related robotech companies and a sensor related company.

Q: Aside from AI, what other deep tech areas are you looking into?

A: Autonomous driving is promising. We made an investment two weeks ago in a company called CowaRobot. This technology is also more advanced in the U.S. than in China, but we have certain advantages too. CowaRobot focuses on low-speed autonomous vehicle solutions. One of their products is a road sweeping robot that has been testing in Changsha city. In China, we look for technology good enough for mass commercialization opportunity that can be used to make a difference immediately. The company also partnered with Samsonite to produce a robot suitcase.
Q: Supposedly another potential product is automatic baby stroller, I read?

A: That is a little bit difficult, as one accident would be too much. For us, this investment reflects our observation that autonomous driving may still take some longer time to commercialize. For low speed autonomous vehicles, however, there are a lot of potentials in China to find appropriate applications on a mass scale.
Q: What is the biggest challenge for this company?

A: Regulations. Even for low speed autonomous vehicles, there are still safety concerns. Changsha is the first city in China trying its road sweeping robot. In order to achieve mass adoption, the company needs to solve the regulation and safety issues. It is also expanding product line, another potential product is a restaurant waiter robot.
Q: What do you think is the timeline for this company to achieve significance revenues?

A: Revenue has already emerged last year. It looks promising as Chinese governments of all levels are all looking for cool technology to be deployed in their cities or provinces. Some years ago, that was not the case as government officials only cared about GDP numbers. Now with pollution and the drive toward innovation and green GDP, this kind of technology serves well to governments’ policies.
Q: What do you think are the biggest challenges for Chinese VC nowadays investing in Chinese start-ups? High evaluation? Competing with massive amount of capital from government funds?

A: I have always been focused on early-stage investments, and the evaluation at this stage is pretty reasonable, especially on the U.S. dollar fund side. The current issue is valuation is a bit crazy for growth and late stage companies, as a lot of money is coming in.

For example, we invested in a company whose name I cannot say. In just two months, many investors are trying to invest with 10 times higher evaluation and a big player is thinking of acquiring the company. Big Chinese tech companies are super aggressive now and are moving to earlier stage investments with a more dominance-focused mindset. That can be good or bad for VCs. It is good as they provide fast and lucrative exit opportunities, but it also means VCs perhaps don’t have the opportunities to grow with companies in the way they used to.

Nina Xiang is the co-founder and managing editor overseeing editorial content and product development at CMN. Before founding CMN in 2011, Nina worked at BusinessWeek magazine in Beijing and Institutional Investor magazine in New York, writing about business and financial services. While in New York, she also served as part-time correspondent for Shanghai's financial television channel, China Business Network, as well as China Radio International, China's national English-language radio network.